The Next Recession
An economist once said words to this effect: “No economic expansion has ever died peacefully in its bed from old age. Every one of them has been murdered by the Federal Reserve.”
That’s an exaggeration, but it does highlight the fact that, until recently, most expansions ended when the Fed “took away the punch bowl,” i.e., raised interest rates, to keep inflation in check. However, the past three recessions were triggered—or at least made worse—by poor investment decisions that caused a financial bubble to burst with dire consequences for the broader economy. The Great Recession—December 2007 to June 2009—was precipitated by overinvestment in subprime mortgages, which ballooned into a full-blown global financial crisis in September 2008. The prior two recessions—March 2001 to November 2001, and July 1990 to March 1991—were precipitated by overinvestment in technology (the tech bubble) and commercial real estate (the savings and loan crisis), respectively.
The current expansion is 76 months old, longer than the last one at 73 months and longer than the post-World War II average of 58 months. But it is well short of the previous two expansions, which lasted 120 months and 92 months. The 120-month expansion—March 1991 to March 2001—is the longest on record.
The above-average length of the past few expansions led economists to call this period the Great Moderation, featuring low interest rates, low inflation and shallow, infrequent recessions. The Great Recession prompted some to suggest the Great Moderation was over, and the economy would see more frequent and deeper recessions. With the help of sustained near-zero interest rates from the Fed, that hasn’t happened.
What to Expect
Moody’s Analytics puts the likelihood of a near-term recession, i.e., within the next six months, at 17%, up from 8% over the summer. This remains low, however. Moody’s believes the expansion is mid-cycle.
The most common cause of recessions—an overheated economy leading to inflation—simply isn’t there. Financial bubbles, which played a big role in the last three recessions, are hard to spot, as former Fed Chairman Alan Greenspan famously noted. Sustained low interest rates could increase the likelihood of a bubble, because interest rates are an important pricing and risk signal to investors and the financial markets. Ultra-low rates encourage investors to assume more risk. The Fed has singled out commercial real estate as a potential concern. One mitigating factor, however, is that CRE fundamentals—absorption, construction, vacancies and rents—all remain in the safe zone. Elevated levels of public sector debt also are a concern (think Greece), but so far have not risen to the level of a threat to global financial stability.
The bottom line is that there is no recession lurking in the near term, but there will be some volatility and pain as the Federal Reserve ever-so-gingerly raises interest rates, incrementally changing the landscape for lenders and investors across all sectors of the global economy.
Written By: Bob Bach – Director of Research – Americas